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The purpose of the Advanced Economic Value of Equity (Advanced EVE) module is to measure the value of a financial institution's equity if the assets and liabilities of that institution were subjected to an immediate interest rate shock. As with the other modules in this system, the Advanced EVE is based upon the cash flows out through time of each individual item in the institution's investment, loan, and deposit portfolios.
The system measures the present value of those cash flows in the various rate shock scenarios, summing those values for the assets and summing those values for the liabilities, the net of which provides you the estimated value of equity in each of the various shock scenarios.
Conceptual Framework
For years, impelled both by strategic needs and the demands of regulators, financial institutions have tried to measure interest rate risk from an earnings standpoint. These efforts have evolved from relatively simple static gap models to full simulation of the institution's balance sheet.
Over time it became apparent that interest rate risk is more than just the risk to earnings that arises from changes in interest rates. For instance, items in the institution's investment security portfolio can become illiquid if market rates increase significantly above the yield at which the particular investment was booked. In such a circumstance, the institution might not only be earning an inferior rate of interest on that investment, it might also be unable to sell the investment due to the losses that such a sale would entail.